TRENTON — Deeply in debt and struggling to stay open, Saint Michael’s Medical Center of Newark put itself up for sale two years ago and accepted a $65 million offer from Prime Healthcare Services of California.

Weeks later, however, Prime took a closer look at Saint Michael’s books and concluded they revealed “burdensome and inflexible” labor contracts, HMO rates “significantly below market price,” and two doctors earning more than $500,000 annually.

The for-profit hospital chain slashed its offer to $50 million, then to $43 million in January after analyzing Saint Michael’s operations and unpaid bills, according to documents under review at the state Attorney General’s Office, which must approve the sale.

While there are months of government scrutiny and negotiations ahead before a final deal is approved, one thing is clear: New Jersey taxpayers will be socked big-time when all is said and done.

The proceeds from the sale won’t come close to conquering the $233 million mountain of state-backed loans Saint Michael took on when its parent company, Catholic Health East, acquired the hospital and closed two others in Newark eight years ago.

The remaining debt — which could be as much as $190 million — falls to the New Jersey Health Care Facilities Financing Authority, which issued the bonds in 2008 as part of a program that allows failing hospitals to close or be sold by covering the cost of unpaid bills, an authority spokeswoman said.

This would be the second time Prime Healthcare Services, a $1.6 billion company operating 25 hospitals in six states, acquires a New Jersey hospital and leaves millions in debt to be picked up by the state. Prime’s proposed purchase of St. Mary’s Hospital in Passaic for $30 million leaves $22 million in unpaid bonds and $8.7 million in interest, due by 2027, according to the authority.

As for-profit companies rush in to snap up the few remaining small, struggling community hospitals in New Jersey, experts say it’s time for the state to rethink how it vets these deals to make sure taxpayers won’t be on the hook for millions more.

They say the choice shouldn’t come down to taking such offers or closing down the hospitals.

“The state took the risk with its eyes open. Sometimes you do the right thing and get burned,” said Don Malafronte, president of the Urban Health Institute, a hospital consulting firm. “The obvious problem in this case is that the bet was with public rather than private money. But that was not the first time and it won’t be the last time that the government invested in something it thought was proper but which didn’t work out.”

David Knowlton, president and chief executive of the New Jersey Healthcare Quality Institute, a consumer advocacy and research nonprofit, said health care policymakers “have not caught up with how to regulate for-profit entities. We are in new and uncharted waters.”

The authority’s Hospital Asset Transformation Program was created to save hospitals that are deemed essential to preserving access to health care services, particularly in poor urban areas, and to pay the costs associated with closing failing hospitals.

Prime Healthcare Services also is under contract to buy St. Mary's Hospital in Passaic.Alex Remnick/The Star-Ledger

“These safety net hospitals have no way to attain a profit margin,” Knowlton said. “We can focus on the debt, but what we should be focusing on is: Is this an essential hospital?”

St. Mary’s and Saint Michael’s hospitals undoubtedly are essential to their communities, he said.

One big question is how long Prime and other for-profit companies will keep these hospitals running, Knowlton said. Prime has promised to keep both operating as hospitals for a minimum of five years. But if they sell them off after that time, it’s possible that after swallowing a boatload of debt, the state could also lose out on its investment — and the goal of keeping the hospitals open.

“I don’t think anyone is trying to rip anybody off. I just don’t think we have thought through what happens if Prime says five years from now it didn’t work out with St. Mary’s and sells the land to build high-rise condos,” Knowlton said.

He added that the potential buyers shouldn’t be suspect just because they want to make a deal that best suits them.

“You cannot demonize whoever is at the table willing to take this on,” Knowlton said. “They can shrug and walk away.”

Prime officials declined to comment for this report. But in correspondence with the Attorney General’s Office, Prime officials wrote they have never sold off a hospital.

Saint Michael’s board of directors said Prime offers the best deal for the East Ward hospital’s survival. The hospital employs about 1,000 people and each year admits about 16,000 patients while treating about 34,000 in its emergency room.

“Prime has committed to maintaining Saint Michael’s Medical Center as an acute-care facility for at least five years, a provision no other bidder was able to provide for such an extended period of time,” according to correspondence from the hospital to the attorney general, one of three government entities that must approve any hospital sale.
Prime has committed to invest $25 million in capital improvements, according to the purchase agreement.

Prime also promised to shake up how Saint Michael’s operates just about everything. The Ontario, Calif., company cut its financial offer to buy the hospital after itemizing a list of what it considers questionable decisions: running a 120-slot residency program with funding for only 90 aspiring doctors, at a loss of $6 million; paying $2.8 million to lease a 77,000-square-foot space inside the former Saint James hospital building for a behavioral health unit that could be relocated inside Saint Michael’s; and signing contracts with HMOs that were well below market value.

“The primary care physicians that constituted the main referral source for Saint Michael’s have left the hospital,” which pays $15 million a year to keep a roster of specialty doctors who bring in no referrals, including one earning $750,000 and another $500,000, according to the documents.

Among the small pool of suitors, Barnabas Health bid higher than Prime, but intended to buy Saint Michael’s only to close it. Barnabas has since signed a management agreement to operate University Hospital in Newark. Offers were also made by CarePoint Health, which owns Bayonne, Hoboken and Christ hospitals in Hudson County; Whitestone Associates; and a firm that refused to let Saint Michael’s disclose its identity.

Saint Michael’s “considered both cash and non-cash factors when evaluating the proposals,” according to the hospital’s correspondence with the state. “On balance, Prime’s offer represents the best mix of financial considerations, non-cash elements, speed of execution and likelihood of long term success.”

A spokeswoman for Saint Michael’s declined to comment for this article.
State officials also declined to discuss the matter while the review is ongoing.
The sale, which has been under state review since January 2013, needs approval from the state Health Department, the attorney general and a Superior Court judge.